The Importance of Understanding The Cost of Doing Business

What does it cost you to keep the doors open? How do you rate among the industry standard? Is your mark up enough to generate optimum profits and cash flows? If you are note able to answer any of questions posed, then you simply lack the knowledge of the cost your business incurs, and further lack the knowledge of how you are pricing out your services, or products. Understand the cost of doing business plays an enormous role into the amount of information that you can generate to conduct various analyses that can help to run an efficient business.

In order to run an efficient business you first need to understand all the costs involved in keeping the doors open. Start by figuring out the total cost associated with your business on a monthly basis. Then break out the cost between what can be considered direct costs, and what can be considered administrative costs. Direct costs are related to the line employees servicing the customer, while the administrative costs are related to the business support team that provide Accounting, Payroll, Human Resources, Sales, Marketing, etc.

Once you have broken down the direct cost, the next step is to categorize the cost between variable and fixed cost. Variable cost fluctuates with business activity, the higher the sales, the higher your labor cost, or material cost in the case of manufacturing. Fixed costs on the other had are not necessarily impacted by the fluctuation in revenue that the business generates. Examples of fixed costs are monthly rent, administrative staff, telephone, utilities, etc. A business will have these fixed costs regardless of what happens at the revenue level, if you experience revenue decline you may be able to move into smaller sized real estate, but again you can only change your venue so many times before it becomes more of disturbance.

Industry, or economic changes can impact your business severely, keeping your cost more on the variable side will ensure that your business is flexible and nimble enough to change and cut back in order to preserve cash. By knowing your variable cost you will be able to calculate your break-even point, which is the amount of services, or products you need to sell in order to cover all of your fixed costs. Knowing these figures will also help you determine if you are running your business efficiently by comparing it to industry standard. In addition, it will also help you determine your profitability per unit sold.